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Wednesday, February 17, 2016

The Coming Distribution Wars

Late last week, the Massachusetts liquor regulatory agency issued an extremely important ruling about one of the state's distributors.

[The distributor] Craft Brewers Guild spent “approximately $120,000 to pay kickbacks to 12
retail licensees throughout the Boston area, and went to great lengths
to hide its knowingly unlawful conduct,” the commission wrote in a
written ruling.

The practice of paying pubs for tap handles is as old as the distribution system*, and if you scratch the surface in any market, you'll hear rumors of this happening. The Massachusetts case was precipitated by public complaints of Pretty Things--the beloved and now defunct little Boston gypsy brewery--who accused the distributor of taking bribes to supply beer at certain pubs. (More here on that story if you're interested.)

Every system has points vulnerable to corruption, and in beer, its at the distributor level. About 18 months ago, I did some (gasp!) actual reporting on this. A brewery sales rep confirmed it happens here in the Northwest: "Pay to play absolutely exists in mature markets like the northwest but
it's not typically found in bars except for high volume accounts with
few beer choices." The really insidious thing is that there are so many ways to for a distributor to offer inducements to a retailer. You can follow the link if you want to read about all the work-arounds, but I'll quote one just to illustrate how subtle kickbacks can be. It comes from a former brewery rep who watched a kickback happen.

A brewery was willing to pay $500 to the distributor's representative if
he could move ten kegs of the brewery's beer. This is legal. As the
promotion was about to end, the distributor had sold only eight kegs.
At the last account, he swung a deal so that he essentially dipped into
the promo money and sold the two kegs to the pub for the price of one.
(The pub paid for the two up front, and the distributor shared the cost
of the keg later.)

That's the kind of corruption that's impossible to police. The Massachusetts distributor was nabbed because they were blatantly buying taps--an easier crime to identify. But given the resources of state regulatory agencies (the OLCC in Oregon's case), there's no way to be out there in pubs policing these transactions as they happen.

While none of this is new, it is especially salient at this moment in the life of the beer industry. At the top of the market, we have extreme consolidation. There are only two big players left, and they would like to merge their international activities (claiming to spin off the weaker business in the US to get past the feds' anti-monopoly concerns). At the bottom end of the market, you have intense competition for retail space.

As I've mentioned in the past, the vast majority of recent growth in craft brewing has been small production breweries, not brewpubs. Those little guys may have tasting rooms, but they need to put their bottles on shelves and their kegs in pubs to thrive. There are so many players now that distributors become the gatekeepers for which beers make it to the retail space. This is what Pretty Things' Dan Paquette was complaining about: his beer wasn't making it to market. There are a lot of ways for distributors to exploit this brand oversupply by manipulating both what breweries and retailers pay.

Large companies like ABI are already making a big play to control distribution. Smaller companies are going to become desperate to get their beer to market. As more and more breweries come online and more and more consolidation happens at the top, the opportunities to cheat will grow. This is not a story that's going to dominate the blogs or newspapers, but it will be one of the most important dynamics driving what happens in beer in the coming years.

________________
*Tiny backgrounder: in the US, we have a three-tiered system of beer
sales, where a producer (the brewery) sells kegs to a middle-man, the
distributor or wholesaler. The distributor then sells to retailers like
pubs and grocery stores. This system was designed to protect retailers
from the influence of breweries, which have outsized influence in
markets like those in the UK. In the craft brewing era, many states have
passed laws to allow breweries under a certain size to
self-distribute.

8 comments:

" There are so many players now that distributors become the gatekeepers for which beers make it to the retail space. This is what Pretty Things' Dan Paquette was complaining about: his beer wasn't making it to market. There are a lot of ways for distributors to exploit this brand oversupply by manipulating both what breweries and retailers pay."

For what it's worth, this is true, but it's an overly simplified view of things, at least in this market. No matter how small you are, if you make great beer you WILL have distributors beating down your door offering to stock your product. More often than not, the breweries that complain about an inability to find distribution are those that offer mediocre product in a market saturated with awesome beer.

Chris, by all accounts Pretty Things made excellent beer -- it was beloved by both the beer geeks and the casual drinker. It was not mediocre product. So the "brew great beer and the distributors will beat a path to your door" narrative doesn't work in this instance. Further, the assumption that all distributors are on the up-and-up doesn't hold water: the Forbes article Jeff links to detailed what the distrib in question here did to push more accounts: it did discounting and kickbacks to bars/restaurants, then charged the breweries they repped to cover the costs even as that wasn't what was agreed upon when the contracts were signed. When breweries pushed back, they weren't pushed to the bars by the distributor -- a not-so-subtle way of saying "play the game or else." And getting out of a distributorship deal is massively difficult -- huge penalties and a high barrier to prove the distrib isn't doing its job. In Chicago a few years back, Bell's basically decided it was worth it to leave the marketplace for a few years than remain with its distributor. Stone took forever to take the plunge in Chicago because of the reputation of its distributors. It took the work of a few smaller distributors -- one a start-up by the guys who own Two Brothers Brewing -- to get outside craft breweries to jump into the market, and then you started hearing about conflicts with other distributors.

Actually I believe Pretty Things was complaining about the system (not their distributor) and how they were being shut out because of pay to play. The MA ABC folks only investigated Pretty Things' distributor and 5 retailers, not the whole industry. One press report said more investigations are open.

I agree with Bill. While great beer may be the ultimate difference between success and failure; it by no means assures success. We make great beer. We have won numerous metals at GABF. We have never been contacted by a single distributor asking us to assign them rights to distribute our beer. In my experience, distributors care little about beer quality and care little about whether your beer will sell in the future. What they want is a beer that will sell well today.

Tarring all distributors with such a large brush is an insult (to me and many others), not correct, and self-defeating from a business-sense. What most retailers want from a distributor and ultimately from a brewery is a way to make money. Offer them that, and they will buy. Cheating starts at the top with the brewery and moves all the way down the line (yes including some distributors) to the bar and shop owner. Overturn Section 2 of the 21st Amendment to the Constitution and you'll remove cheating: it'll become legal.

One thing I should have made very explicit is that most distributors don't break or bend the rules. I was really speaking here about how the wholesale tier is the one vulnerable to corruption by sketchy companies.

Some of my best friends are distributors! (That's not entirely true, but the sentiment is.)